Friday, September 5, 2014

I am off to Greece for the rest of the month so I decided to focus my attention on my ancestral home. Roula Salourou of ekathimerini reports, Pension system nears breaking point:

The ticking time bomb of the social security system will not explode in 2025, but 10 years earlier, or next year, according to a study by the Institute of Labor of the General Confederation of Greek Labor (INE/GSEE) which is to be presented in Thessaloniki on Thursday.

GSEE’s annual report on the Greek economy includes a chapter on the aging population and the sustainability of the social security system from 2013 to 2050. Its conclusions, which Kathimerini has seen, say that the prolonged recession and high unemployment have brought forward the pension system’s crumbling point by a decade and that in order to become viable the system requires additional resources of 950 million euros for 2016 alone.The system’s extra requirements are expected to grow rapidly in the following years, soaring to 2.67 billion euros for 2020.

The authors of the study note that pension cuts and a hike in the retirement age would have allowed for the sustainability of the system until 2025 had it not been for the deep and protracted recession and high unemployment. As a result 2015 is seen as the year when the social security system could fall apart.

They add that new measures will be necessary due to reduced state funding (from 16.4 billion euros in 2012 to just 8.6 billion per year from 2015 to 2018), an explosive rise in the jobless rate, an increase in the number of new pensioners (from 40,000 in 2009 to 100,000 per year after 2010), salary reductions and the growth in undeclared and flexible labor.

Already the social security funds’ cash reserves have dwindled from 26 billion euros in 2009 to just 4.5 billion last year, while the demographic shift in Greece resulting from longer life expectancy and a reduction in the birthrate has contributed to a 15 percent increase in the pension burden on funds, the study notes.

The INE/GSEE economists also note that after the recent interventions to the pensions system, the average age of retirement has grown to 63 years (not including early retirement options), while pensions have been cut by about 32.5 percent.

Indeed, the Greek pension system has reached its breaking point and if you want to see how mindless austerity is a one way policy to disaster, look no further than Greece. Troika, Germany and the Greek coalition government have turned a deep recession into a prolonged depression and young workers and older Greek men are feeling the pain of job losses:

Most weekdays, Thanassis Tziombras, a 50-year-old worker at the shipbuilding zone here at the main Greek port of Piraeus, is up before dawn and out looking for work by 6 a.m.

Some 40 minutes away, in the posh Athens suburb of Psychico, Constantinos Tsimas, a 54-year-old U.S.-educated marketing consultant, wakes up to another day of working the phones and emails seeking clients.

There is a social gulf between these two men, but they are united in one thing: the financial and psychological struggle that comes with being older and unemployed in a country where the economy has shrunk by almost a quarter in six years.

Greece's economy has taken such a brutal beating that it is in a category apart from other European countries suffering through the recession. Where Greece lost some 25% of its economic output, Spain lost about 6%. Experts say that, even as the Greek economy begins to recover, the shock has been so severe that older workers are unlikely to ever hold full-time jobs again.

Unlike in other parts of Europe, Greek reforms have largely removed provisions that protected older workers. In Spain and Italy labor-market regulations favoring baby-boomers over their children are still largely in place, entrenching the so-called two-tier labor market. But in Greece, everyone seeking work largely faces similarly poor odds, said Raymond Torres, head of research at the International Labor Organization, the United Nations labor agency.

While Greece's youth unemployment is still a record for the EU--almost 60% of people aged 15 to 24 were out of work in 2013--the unemployment rate among older Greek males is about twice the euro-zone average and almost four times that of Germany.

Some 18% of 40-to-59-year-old Greek men were out of work last year, according to Eurostat, the European Union statistics agency. In the U.S. where the recession set in sooner than in the EU, the unemployment rate for men in this age group peaked at 8.2% in 2010 and has been declining since to reach 5.7% in 2013.

One in five jobs lost in Greece between 2008 and 2013 was from the middle-aged male group. The Spanish equivalent was one in eight. In Italy, middle-aged men actually added jobs in the recession years.

Greece's older men are more often families' sole breadwinners. Female employment rates here, at 43.3% in 2013, are the lowest in the EU, where the average is 62.5%, according to Eurostat.

Recent pension reforms, meanwhile, mean older Greek men who have lost their jobs could be looking at several years of no income. Greece has increased the retirement age to 67 for both men and women, changing a decades-old system that allowed some categories of workers as young as 55 to retire on a full pension.

"If they don't have a job and they have to wait so long for a pension, what are they doing in the meantime? They are at serious risk of poverty, " said Anne Sonnet, a senior economist at the Organization for Economic Cooperation and Development, a Paris-based think tank.

In Greece, with its macho, traditional culture, unemployed men are at risk of depression, says Dr. Kyriakos Katsadoros, a psychiatrist and the science chief of Klimaka, a suicide-watch nongovernmental organization in Athens, who also noted risks of alcoholism and domestic violence.

"We were used to providing for our families through honest work. We were proud of our work--now we're just ashamed," says Mr. Tziombras, counting his worry beads between his fingers.

He is sitting in an old classroom on the port now used by the Communist-led laborers' union here. "Don't kill the mosquitoes--it's others who are sucking your blood," is written in chalk on the blackboard.

He says the union, apart from political guidance, provides "solidarity and psychological support" to workers.

The shipbuilding zone at Perama in Pireaus, once buzzing, is now a wasteland of idle cranes and scattered ship parts. Men sit in cafes waiting for word that a vessel has docked for maintenance and is in need of day workers.

At its peak in 2008, 6,500 men worked here. The shipbuilding industry retains workers on a daily rate as opposed to hiring them as staff, but in 2008 there was so much demand that these workers were effectively employed full time. In the good years, they would take home a net daily salary of about EUR70, or about $95. They haven't agreed to cut this rate, despite calls by employers' associations. Today, about 1,000 workers remain, doing sporadic work.

Mr. Tziombras says his wife managed to find a job as a cleaner at a local school, bringing a few euros into the household budget, but their relationship has been strained by the financial woes. Economists say it is a growing trend in Greece for women that didn't previously work outside the home to take jobs as their spouses lose theirs.

Late last year he drove across the country to get a few days' work at a factory. He has been doing odd jobs at construction sites around Piraeus and Athens, and continues to show up each morning at the port ready for work. The last time he got a job was for three days in January.

"We have gone through our savings, we've sold everything we owned, we stopped any nonessential activity," Mr. Tziombras says.

A law against foreclosing on primary homes means that he isn't likely to lose his home because of mortgage arrears, although he frets the provision may soon be revised. His two children, 17 and 22, are in high school and college. They will continue to depend on him for years, he predicts.

Concerns are in some ways similar in Mr. Tsimas's wealthier neighborhood. Shame at being out of work is the first thing mentioned.

"It's socially shameful but, more than anything, I was ashamed because I had to ask my wife for money," Mr. Tsimas says.

His wife brings home a good salary from her investment-banking job, but the loss of income from his work still hit the family budget, which supports one child at a British university and one in a private school.

He, too, has turned to politics and voluntarism to feel useful--although a very different brand to communist Mr. Tziombras and his labor-union activism. Mr. Tsimas is a member of Drassi, a liberal political party that seldom gets more than 1% in elections. He runs an online forum with friends where they debate about the economy and politics.

For all the shared experiences of shame, financial struggle and family strain, the bottom line for the two men is very different.

"I actually think unemployed working-class guys my age may be better off in a way, because their expectations were always lower," says Mr. Tsimas. "Being at this state at 54 is certainly not what I expected for myself."

Still, his material concerns are not about survival.

"Last year I gave my daughter my iPhone for her birthday," he says looking at his own older mobile phone. "I couldn't afford a new one."

Mr. Tziombras says he has given up on all of the smaller joys of life for him and his family, like dance classes for his daughter or the occasional night at the movies with his wife. It's now all about subsistence.

"Cutting everything that's not food turns the workers into animals," he says.

A record number of tourists flocked to Greece this summer and most of them didn't see the economic pain the country is experiencing because they flew off to their island destinations. But Greece is still reeling from the longest and deepest post-war depression it has ever experienced.

The first time Gikas Hardouvelis left his job as a bank economist to try his hand at Greek politics, in 2000, the country was preparing to join the euro currency union, looking forward to a period of prosperity and optimism.

The second time, in late 2011, Greece was teetering on the brink of a disastrous exit from the common currency, its finances and politics in free fall.

Now, as the country’s finance minister, Mr. Hardouvelis aims to steer Greece out of its catastrophic recession, his hopes lifted by the first indications of an upturn.“A pessimist would say, ‘Everything is difficult around the world — in Europe, how can you grow?’ ” Mr. Hardouvelis, a Harvard-educated economist, said recently in his Athens office. It was his first interview since joining the government in a cabinet reshuffling in June. “An optimist would say, ‘Once you’ve fallen so much, it’s easy to pick up.’ ”

Mr. Hardouvelis is the first finance minister since the onset of the country’s four-year economic crisis to assume his role in the face of predictions that things will get better rather than worse. The Greek economy, now 25 percent smaller than in 2009, is expected to grow 0.6 percent this year.And because Greece recorded a primary surplus in the spring — a budget in the black before debt repayments — it is eligible to begin exploratory talks with its international creditors about easing its huge debt burden, which stands at 174 percent of gross domestic product.

Success, though, will require him to enforce economic changes pledged to Greece’s troika of international creditors: the European Commission, the European Central Bank and the International Monetary Fund. They have kept the country afloat since 2010, when it narrowly avoided bankruptcy, with rescue loans worth 240 billion euros, or $317 billion.

Three days of talks with representatives of the troika on the progress of those changes are to begin on Tuesday. Analysts and international economists are divided about Mr. Hardouvelis’s chances of success.

In his previous political roles, Mr. Hardouvelis was only an adviser, first to the Socialist prime minister Costas Simitis from 2000 to 2004, and later to the technocrat prime minister Lucas Papademos, who was installed in late 2011 to lead a six-month coalition government after the previous Socialist administration collapsed.

Now, as a senior member of Prime Minister Antonis Samaras’s coalition government, Mr. Hardouvelis faces the challenge of administering harsh medicine that the recession-weary Greek public is finding tough to swallow.The regimen will include modernizing an antiquated tax system, introducing a new property tax that aims to spread the burden more evenly and continuing a crackdown on tax evasion.

The second overhaul of Greece’s retirement system since 2010 is already in progress. It involves consolidating dozens of pension funds into three. An effort is underway to cut about 6,500 jobs from the Civil Service. Privatization of many state-owned assets, which has long been on the to-do list but has yet to show much progress, is back in focus, as potential buyers — chiefly from China — eye airports and other infrastructure.

Some experts maintain that Mr. Hardouvelis is the right man for the job, saying he has an ideal mix of experience and abilities. A widely cited academic, he has advised private and state banks, including the New York Federal Reserve, and has engaged in politics and diplomacy during critical moments in Greece’s recent history.

“He has a strong reputation in international economic policy circles, which should be extremely helpful in negotiating with international creditors,” said Kenneth S. Rogoff, a professor of economics at Harvard and a former adviser to the International Monetary Fund. “Of course, his task of trying to restore growth in a country with weak institutions that faces strong creditors is not an easy one.”

Others say he lacks the combative nature required for Greek politics and imposing his will on a reluctant populace.

Jens Bastian, an economic consultant and former member of the European Commission’s task force in Athens, compared Mr. Hardouvelis with his predecessor, Yannis Stournaras, who now heads the Greek central bank but had experience running a private bank before he was tapped for the ministry.

“He never held front-line positions which required him to sign decisions like Stournaras,” Mr. Bastian said.

The new minister’s first real test will come when he meets with the troika’s representatives. After the coming talks in Paris, the parties will reconvene later in September in the Greek capital — a symbolic move intended to indicate that Greece is ready to assume greater control of its actions.

“Greece has done most of the reforms; the next phase is to solidify them, to make sure they don’t reverse,” Mr. Hardouvelis said. “I think it will be done in a more efficient way in the future, precisely because the troika is not right on our neck. They’ll be staying in the background.”

Of the €240 billion in rescue loans pledged to Greece by the troika since 2010, only a small portion remains to be disbursed: €1.8 billion from the European side and €15.6 billion from the I.M.F.

The loans have been dispensed in installments in exchange for painful austerity measures, including Civil Service salary cuts and tax increases that have reduced personal incomes by a third, left nearly one in three Greeks unemployed and shrunk the economy by a quarter.

Greek officials contend that it is in the troika’s interest to hold off on additional austerity. “They have an incentive to allow us to let the economy grow because then we can better service our debt,” Mr. Hardouvelis said. He said he was eager to draft a growth plan, investing in promising sectors like agriculture and shipping to create jobs and to diversify exports beyond the economically anemic European Union.

A debt restructuring in 2012 required private sector bondholders to forgive some €100 billion, but the prospect that Greece’s creditors will share the pain this time is essentially off the table. As the eurozone teeters on the brink of recession once again, member states, particularly Germany, are in no mood to ask their taxpayers to incur losses.

Greece’s aim, instead, is to reduce the cost of servicing its debt through lower interest rates or longer maturities. “Our debt is big, but it’s also very long term, so it’s easily serviceable,” Mr. Hardouvelis said.

He added that the government planned to tap international markets with a new bond issue in the coming weeks, the third round of fund-raising in three months after four years during which financial markets were essentially closed to Greece.

Problems in the broader eurozone — stagnation in Italy and France and political jousting over the continued fiscal discipline championed by Germany — may now favor Greece, Mr. Hardouvelis said, smiling apologetically at the irony. The eurozone’s slump, he said, “necessitates an expansionary monetary policy, which keeps interest rates down and keeps borrowing costs down.”

When troika inspectors arrive in Athens, Greece’s budget will once again come under a microscope. Mr. Hardouvelis bristles at the suggestion that inspectors might take a hard line, noting that foreign auditors originally doubted Greece’s predictions of a primary surplus, only to be proved wrong in the spring. “I hope this has taught them a lesson, and they don’t insist so much on the fiscal side,” he said, noting that a Greek recovery would be undercut by any “new, onerous targets.”

Mr. Hardouvelis, the son of farmer from a small fishing village in Greece’s southern Peloponnese peninsula, said he was sensitive to the social effects of the long siege of austerity. And despite his Harvard pedigree — he went there on a scholarship — Mr. Hardouvelis makes it clear he does not consider himself part of the entitled Greek political elite.

“I understand what unemployment is,” said Mr. Hardouvelis, 58, who is married with two children, one still a student, the other doing his obligatory military service. “I didn’t have a dad who would send me $1,000 a month to make it at college.”

Greeks are overtaxed, he said, but he added that tax relief would need to be preceded by growth. There may be action, though, to temper some “extreme cases” — like a tax on heating oil, which has fallen short of revenue targets while having a negative effect on the environment because Greeks have turned to burning wood to heat their homes.

Mr. Hardouvelis contends that the current government is leading a more “mature” society and that the lackluster results of anti-bailout opposition parties in elections to the European Parliament in May signal a public realization that there is no viable alternative to the country’s living within its means — however meager for now.

“Greeks don’t buy promises anymore,” he said. “They know they will be the ones that have to finance them.”

Greeks went from paying hardly any taxes to being overtaxed and not surprisingly, the more dumb taxes they impose, the more general tax revenues decline. When people are out of a job, they don't have money to pay for special taxes ("haratzia"). It's come to the point where Greeks are giving back land and apartments in order not to pay taxes.

In fact, being a landlord in Greece is absolutely terrible. You can't sell real estate because there are no buyers and many people are not paying the rent because they've fallen on hard times. And good luck taking them to court, you'll never get your money. On top of this, you have to pay taxes through hiked up utility bills. The government is desperate for tax revenues, trying to squeeze blood out of stones.

While Greece desperately needed reforms, it has yet to make cuts where they are most needed, in the bloated public sector. Sure, they cut wages and pensions, but the bulk of the pain from unemployment was felt in the private sector, not the public sector which is still largely intact (50% of working Greeks are working in some public sector job).

And the worst might lie ahead, especially if Greece's far-left Syriza builds on its momentum and wins the next elections, which might come as soon as next spring. I think all Greek politicians are hopelessly corrupt and dangerous demagogues and the most dangerous of them all is Alexis Tsipras, leader of Syriza. He continuously preaches that Greece can easily walk away from its debts and stay in the eurozone, which is utter nonsense (but desperate Greeks believe him).

Anyways, I'm off to Greece to spend time with family and friends. In my absence, those of you who want to track pension and investment news can do so by following the links below:

In addition, you can follow me on Twitter (@Pension Pulse) and there are many links to other sites on the top right hand side of this blog under the Pension News section as well as many excellent blogs I track on my blog roll.

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I don’t see Crete as picturesque, smiling place. Its form is austere. Furrowed by struggles and pain. Situated as it is between Europe, Asia and Africa, the island was destined by its geographical position to become the bridge between those three continents. That’s why Crete was the first land in Europe to receive the dawn of cvilisation which came from the East. Two thousand years before the Greek miracle, that mysterious, so-called Aegean civilisation was in full bloom on Crete – still dumb, full of life, reeling with colours, finesse and taste which surprise and provoke awe. It is in vain that we defy the traces of the past.

I believe there is an effulgence, a magic effulgence radiating out of ancient lands which have struggled and suffered a great deal. As if something remains after the disappearance of the peoples who have struggled, cried and loved on a patch of land. This radiation from past times is particularly intense on Crete. It penetrates you the moment you set foot on Cretan soil.Then you are overcome by another, more concrete emotion. Anyone who knows the tragic history of the last centuries of the island is transfixed when he reflects on the frenzied struggle on that land between men fighting for their freedom and oppressors raving to crush them. These Cretans have grown so familiar with death that they no longer fear it. For centuries they suffered so much, proved so often that death itself could not overcome them, that they came to the conclusion that death is required in the triumph of their ideal, that salvation begins at the peak of despair. Yes, the truth is hard to swallow. But the Cretans, toughened by their struggle and greedy for life, gulp it down it like a glass of cold water.

“What was life like for you, grandfather?” I asked an old Cretan one day. He was a hundred years old, scarred by old wounds and blind. He was warming himself in the sun, huddled in the doorway of his hut. He was ‘”proud of ear” as we say on Crete. He couldn’t hear well. I repeated my question to him, “What was your long life like, grandfather, your hundred years?” “Like a glass of cold water,” he replied. “And are you still thirsty?”

-- Excerpt from Pierre Sipriot’s interview with Nikos Kazantzakis French Radio (Paris), 6th May 1955

Below, a beautiful production by the "OXI Day Foundation" in the US on the "cultural gene" of Philotimo, a character virtue founded on the same values that elevated the word Philosophy to a universal human expression (h/t, Nadia).

I also embedded a nice clip with some of the best beaches in Greece. Beyond its ageless struggles, Greece is still the most beautiful country in the world and the absolute best place to vacation. I'll be back in October to resume my blogging. If you need to reach me, email me at LKolivakis@gmail.com and I'll try to reply as soon as possible.

Thursday, September 4, 2014

Among the list of arguments advanced for the proposed Ontario Retirement Pension Plan (ORPP), which with the re-election of the Liberal government will now suck up $3.5-billion of Ontarians’ savings every year to invest on their behalf, efficiency was near the top.

Not only are the province’s hapless citizens chronic under-savers, as the recent budget lectured them, but if left to invest unchaperoned they would simply blow it all on things like mutual funds, with their notoriously high management fees. That much is true: people who invest in mutual funds, of the kind that blanket the airwaves with claims of their superior returns at RSP time, are suckers — of which there are, by one estimate, more than 525,000 added to the population every year.

But the premise, that by forcibly merging everyone’s savings into one big, government-sponsored fund, such waste can be avoided, does not necessarily follow. I’ve had a look at several years’ worth of annual reports from the Canada Pension Plan Investment Board (CPPIB), on which the ORPP is to be based (indeed, the government cites the plan as a fallback from its preferred position, of simply expanding the CPP). It was hard slogging: the figures on costs are buried in acres of print near the back. But the picture that emerges is unmistakable, and gives the lie to any claims of savings.

In the last fiscal year (ended March 31), the board incurred costs of about $1.74-billion, or nearly 1% of the $183.3-billion in assets it started the year with. (The fund now stands at $219-billion.) Of this, about $1-billion was in fees paid to external managers, who invest on the board’s behalf. Another $200-million or so was in transaction costs — the cost of executing trades and acquiring assets. The rest, nearly $600-million, was in general operating costs. In the last four years, total costs have more than doubled; since fiscal 2007, they are up roughly seven-fold.

The choice of year is significant: 2007 was the year the board switched from a purely “passive” investing strategy — that is, simply “buying the index,” seeking to replicate the performance of the broad market in each asset class, rather than trying to pick particular stocks or bonds — to “active” management, including a major plunge into private equity and other relatively risky assets, in hopes of earning higher returns than the average. It hasn’t really worked out that way.

In the eight years since it shifted to active management, the CPPIB’s return on investment, net of all costs, has beaten its “reference portfolio” — made up of the indexes for each of the asset classes in which it invests — just four times: 2007, 2008, 2011, and 2012. The other four times it lost. To be sure, in those four good years, it beat the reference portfolio by an average of two percentage points. Add it up, and the board estimates its efforts “added value” to the tune of a cumulative $3-billion, meaning the fund is worth about 1.4% more, eight years later, than it would have been without them. But it spent more than $7.5-billion to do so. And there’s no guarantee even that meagre gain won’t be wiped out next year.

A not inconsiderable part of the bill went in salaries to its senior executives. The seven top managers listed in the annual reports collected an average of $3-million apiece in total compensation last year. (Admittedly that was a good year, but it’s commonly in excess of $2-million.) There’s no need to begrudge them that — they’d probably pull down something comparable in the private sector. But that’s the point: in the private sector, it’s sucker money they’re collecting. Whereas with a compulsory fund like the CPPIB, it’s all of our money.

CPP execs were in the papers boasting of the 16.5% return they earned last year — 16.2% after operating costs. Great: the reference return was 16.4%. That’s the average, meaning it’s the return you could expect to collect, on average, just by picking stocks (and bonds) at random — the proverbial flinging darts at the stock listings, if newspapers still had stock listings. You don’t need to pay people $3-million each to slightly underperform the average. (For example, I would be willing to do it for a third as much.)

That’s not quite fair. Nobody earns the same return as the index: there’s always some costs involved. But the costs the CPP is incurring are vastly higher than they would be had it stuck with the original passive strategy. My own little portfolio of exchange-traded funds (ETFs), all of them strictly index-based, has an average management expense ratio of 0.19% — less than a quarter the CPP’s.

I don’t mean to suggest the CPP is doing anything wrong, or corrupt. As investment funds go, I’d guess it’s better managed than most. Certainly it hasn’t behaved anywhere near as foolishly as Quebec’s Caisse de dépôt, which lost a quarter of its value in 2008 after betting heavily on asset-backed commercial paper, nor does it compare to the continuing mess at the Alberta Heritage Savings Trust Fund. It’s only making the same mistake as all the other actively managed funds — or rather the people who invest in them: thinking they can beat the market.

The evidence on this is overwhelming: in any given year, two-thirds to three-quarters of actively managed funds get taken to the cleaners by their index. Over a 10-year period, it rises to 90%. Their managers aren’t stupid: they just aren’t any smarter than all the other smart managers out there. The only way you can beat the market is if you know something everyone else doesn’t — new information, not previously public — and not just once, but routinely. That’s not just hard to do. It’s damn near impossible. Which is why the smart money buys the index, and leaves the sucker money to do the heavy lifting.

And yet the CPP is spending $1.74-billion a year of your money and mine in the same futile attempt to beat the index. And the Ontario government is about to copy them. Because God forbid they leave it up to you. Suckers.

I like Andrew Coyne. I read and listen to his political commentaries and even agree with some of his positions. Unfortunately, when it comes to pensions, he's completely and utterly clueless and falls into the same trap that many lazy reporters do when they want to rail against "big government" and the "big, bad CPPIB."

First, let me give him a break. He's right, most active managers stink. In fact, 2014 is shaping up to be a particularly brutal year for all active managers, including hot hedge funds. Eighty percent of mutual fund managers are underperforming their index, which reinforces Malkiel's thesis that investors should be diversifying their holdings through low cost exchange-traded funds (ETFs). That much Coyne got right.

He also correctly points out that the cost of running the CPPIB is significant. The CPPIB invests in public and private funds as well as hedge funds. Their private equity and real estate investments are done via funds and co-investments. Their partners are some of the best funds in the world and they dole out big fees to invest with them.

But there is a reason why the CPPIB has invested a significant chunk of its assets in private markets. By their nature, private markets are not as efficient as public markets, so there is greater potential to unlock value over the long-run and make significant gains over public market indexes, ie. their passive benchmark or reference portfolio.

The key in all this is to measure the CPPIB's value-added over a long period, not just one or two years. Why? Because investing in private markets is a money-losing proposition in the short-term (the so-called J-curve effect) and it takes at least four to five years before the money really starts coming in for private equity investments.

None of this is mentioned in Coyne's misleading article. Go back to read my comment on CalSTRS taking CPPIB to school as well as my comment on CPPIB's FY 2014 performance. I explain why CPPIB tends to under-perform when public markets are surging and why it outperforms when a bear market strikes. Over the long run, this has generated big gains for CPPIB.

Importantly, gross value-added over the past eight years considerably outperformed the benchmark totalling $5.5 billion. Over this period cumulative costs to operate CPPIB were $2.5 billion, resulting in net dollar value-added of $3.0 billion.

There is something else that really bothers me about Coyne's slanted piece. If he thinks investing in ETFs is a retirement policy, he's really a lot more clueless on pensions than I think. He completely ignores the benefits of defined-benefit plans which include bolstering overall economic activity, increasing tax revenues and more importantly, lowering costs and pooling investment and longevity risk.

You see while investing in a diversified portfolio of ETFs is fine, if another 2008 or worse strikes, Mr. Coyne and his followers will suffer significant losses and a big hit to their retirement accounts. If they are getting ready to retire when disaster strikes, they're really screwed whereas members of a defined-benefit plan have peace of mind that their pension payments are secure, allowing them to retire in dignity.

I can go on and on about the case for boosting DB pensions and enhancing the CPP, but suffice it to say that the trash the National Post is publishing is completely inaccurate and misleading. The only thing I like about his comment is that it can be used to trash PRPPs which the Harper government is pushing for.

Let me end by congratulating Mitzie Hunter who was named Ontario’s associate finance minister, reporting to Charles Sousa, responsible for the new retirement pension plan. She has a big job at hand and I really hope they get the governance and risk-sharing right (see Newfoundland's new pension plan deal).

Below, Mark Wiseman, CEO of CPPIB, talks about the importance of thinking long term. Also, Leo de Bever discusses taking the long view on pensions. Take the time to listen to their comments, they understand why it's important to think long term when managing pensions.

Wednesday, September 3, 2014

All those headlines about new stock market highs may look sexy, but life for active managers hasn't been quite so much fun.

In fact, running large-cap mutual funds has been a rough business, with about 80 percent underperforming the S&P 500 in 2014, according to S&P Capital IQ Fund Research. That's four out of five managers who've failed to match a simple stock market index fund that usually has lower fees and other advantages.

There are a handful of explanations for why performance has been so weak this year, but at the core seems to be the general and stunningly persistent belief that the market remains ahead of itself, with danger always right around the corner. Fear of a looming correction has kept many investors playing defense.

"We've gone 35 months without a decline of 10 percent or more, and the median since World War II is 12 months," said Sam Stovall, S&P's chief equity strategist. "Everybody seems to be waiting for that all-elusive correction, when everyone will pile in. But if everybody's waiting for it, it won't happen."

Stovall believes the trouble active managers have had actually could feed into the market rally. As the year winds down, managers may begin to chase performance, taking on more risk or actively seeking out poorly performing sectors such as small-cap stocks.

"If they underperform by too much, they don't get their bonus," he said. "With 80 percent underperforming vs. the more normal 73 percent, you have a greater number of fund managers who are going to feel like they've got to really turn in the afterburners to hopefully outpace the market by the end of the year."There is, however, a bit of a silver lining in the troubles for active managers.

Todd Schoenberger, president of J. Streicher Asset Management, said the underperformance actually is indicative that managers are prudently reducing risk during an aging market rally.

"If you have a portfolio manager who's knocking the ball out of the park and hitting grand slams, doing amazing performance, the investor should always ask what is the amount of risk being taken to achieve that number," he said. "If you have a portfolio manager making 30 percent, there's a solid chance they can lose 30 percent. The portfolio managers, even though they're lagging the averages, they're probably doing the prudent thing in managing risk."

Active management has lagged in the years since the financial crisis—ever since the Federal Reserve employed a historically strong intervention into financial markets and stocks have operated on a risk-on risk-off mode, with correlations high and little place else to go for return but equities.

Investors have flocked from mutual funds since the crisis, though at least in terms of money flows 2013 and 2014 have been better years.The exchange-traded fund industry, which uses passively managed low-cost index funds, has exploded to $1.81 trillion under management, a 20 percent gain over just the past 12 months, according to the Investment Company Institute. The $15.7 trillion industry has grown 14.8 percent in the 12-month period—respectable, for sure, but behind ETFs.

Doug Roberts at Channel Capital Research believes extreme central bank easing has made it tougher on active managers.

"Once you have everything going up, it's really difficult for an active manager to outperform," he said. "He has to be right on the mark. He has to get into something that not only has good long-term fundamentals but also is at an inflection point. That's no small task."

This shouldn't surprise us, even hot hedge funds are struggling this year. Why are active managers severely underperforming yet again? You know my thoughts already. Just like hedge funds, the bulk of mutual funds stink, getting paid fees for being closet indexers and worse still, for underperforming their index.

The fact is many active managers continue to misread the macro environment and instead of cranking up risk, they're reducing risk by raising cash, preparing for another stock market crash that is unlikely to happen anytime soon as this rally keeps surprising the staunchest bears and bulls.

And as I've warned all of you recently, the real risk in the stock market is another melt-up unlike anything you've ever seen before. In that comment, I warned that the endgame is deflation but before that, we'll get a massive liquidity-driven rally in risk assets, ending my comment with this stark warning:

...remember the wise words of John Maynard Keynes, "markets can stay irrational longer than you can stay solvent." The events I'm describing above won't happen in the next year or even five years. So while the Zero Hedge bears keep posting scary clips, relax and mark my words, the real risk in the stock market is a melt-up, not a meltdown, and institutions betting on another crash will get clobbered.

It seems like the folks at Morgan Stanley agree with me as they now see this market rallying for another five years. Of course, we all take these prognostications with a shaker of salt as a lot of things can derail this endless rally, especially bad news out of Europe which is at risk of a total collapse.

I foresee a lot of of mutual funds and hedge funds will be chasing the winners in the last quarter of the year. What else do I foresee? The high octane momentum stocks that got crushed in Q1 are coming back to life and will severely outperform the S&P 500 in Q4. For example, check out the recent action in Splunk (SPLK) and FirEye (FEYE). And nothing seems to be stopping Tesla's (TSLA) or Netflix's (NFLX) momentum for now. There are other momentum darlings like GoPro (GPRO) ripping higher as momos chase the next big thing.

Below, Wharton School Professor of Finance Jeremy Siegel has been bullish on the stock market for years now and he's not ready to change his mind yet. But he introduced a caveat Tuesday on CNBC: "We are creeping closer to fair market value [for stocks], which I think is approximately 18 times S&P earnings."

As I've repeatedly warned you, the big risk right now is stocks going parabolic, especially if the ECB engages in quantitative easing on Thursday. That will ignite another fire under global equities and other risk assets. Stay tuned, it should be an entertaining final quarter of the year and I think a lot of underperformers are going to be chasing stocks higher going into year-end.

Tuesday, September 2, 2014

In the outcry about the recent merger mania to take advantage of the tax avoidance transactions known as inversions, certain key players have been notably silent: public pension funds.

Many of the nation’s largest public pension funds — managing trillions of dollars on behalf of police and fire departments, teachers and others — have major stakes in American companies that are seeking to renounce their corporate citizenship in order to lower their tax bill.While politicians have criticized these types of deals — President Obama has called them “wrong” and he is examining ways to end the practice — public pension funds don’t appear to be using their influence as major shareholders to encourage corporations to stay put.

In the past six months, some of the nation’s largest companies have announced plans to move abroad. AbbVie, a pharmaceuticals company based in Illinois, has agreed to acquire a smaller British rival, Shire, so the combined company can relocate to Britain for tax purposes. Another drug company, Mylan, which is based outside Pittsburgh, has proposed buying the international generic drug business of Abbott Laboratories so the company can relocate to the Netherlands. Medtronic, a medical device company based in Minneapolis, has agreed to acquire Covidien of Ireland. Applied Materials has agreed to buy Tokyo Electron so it, too, can move to the Netherlands. And last week, Burger King announced it was buying Tim Hortons, the Canadian chain of coffee-and-doughnut shops, in a deal that would make Burger King a corporate citizen of Canada.

The California Public Employees’ Retirement System, the nation’s largest public pension fund and typically one of the most vocal, has remained silent.

“We don’t have a view on this from an investor standpoint — we’re globally invested, as you know, and appreciate that tax reform is a government role,” Anne Simpson, Calpers’s senior portfolio manager and director of global governance, told me. “We do expect companies to act with integrity, whatever the issue at hand — that goes without saying. We also want to see a focus on the long term.”

When I pressed for more, her spokesman wrote to me, “We’re going to have to take a pass on this one.”

Public pension funds may be so meek on the issue of inversions because they are conflicted. On one side, the funds say they care about the long term and the implications for their state. Calpers’s “Investment Beliefs” policy states that the pension system should “consider the impact of its actions on future generations of members and taxpayers,” yet most pension funds are underfunded and, frankly, desperate to show investment returns. Mergers for tax inversion can prop up share prices of the acquirers and clearly help pension funds, at least in the short term, show improved performance.

Some pension managers say that their job is strictly about generating cash for pensioners and that they shouldn’t take other issues into consideration. Ash Williams, the executive director and chief investment officer of the Florida State Board of Administration, which manages more than $150 billion, explained it to me this way: “If you’re in my seat, you’re thinking about it not only as an investor, but you’re thinking about it as a fiduciary, which sort of walls out a lot of the political considerations that might otherwise be there.” He went on: “You just have to think, ‘O.K., so I’m guarding the economic interest of my beneficiary. That is my duty, and that’s the start, the middle and the end of it.’ ”

When I pressed him about whether he felt he needed to consider the impact of these deals on the American tax base, which would affect pensioners, he said, “I guess I’d have to say what’s best for the company, what therefore maximizes the value of the ownership relationship I have to the company.” He added, “I mean, my gut is, as an American you’d like to keep businesses here.”Mr. Williams’s approach appears to be the norm among most investors. However, Mark Cuban, the investor and owner of the Dallas Mavericks, took to Twitter with the kind of view you’d expect from a public pension fund, not a free-market evangelist.

“If I own stock in your company and you move offshore for tax reasons, I’m selling your stock,” Mr. Cuban wrote on Twitter in July. “When companies move offshore to save on taxes, you and I make up the tax shortfall elsewhere,” he said, encouraging investors to “sell those stocks and they won’t move.”

Last month, Shirley K. Turner, a Democratic New Jersey state senator, introduced a novel piece of legislation in an effort to make inversion deals less attractive. She proposed that the state’s pension board be forbidden to invest in companies that are involved in inversion deals. She said the state of New Jersey “ranks sixth among public pension funds investing in corporate inverter AbbVie, holding more than 1.5 million shares of the company’s common stock, valued at $81.9 million.”

It is unclear how such legislation would work. For example, would the state immediately be forced to sell its holdings in a company involved an inversion?

Not all officials who oversee pension funds are focused only on the immediate bottom line.

“Our fiduciary duty to our members is to vote our economic interest — and that means making an individualized determination of whether a given transaction is in our best interests as long-term share owners,” said Scott M. Stringer, the New York City comptroller. “As a result, we don’t merely look at the offer price on the day of closing but instead take into consideration everything from potential influence on shareholder rights to whether a merger places short-term gain over long-term growth.” Still, as Pfizer, one of the largest companies in New York, has continued to contemplate a merger with AstraZeneca that would make the combined corporation a British entity, neither Mr. Stringer nor any other investor acting on behalf of pensioners has spoken out. Perhaps not surprisingly, the only people who appear to be concerned are a small but growing group of politicians in Washington.

After Burger King announced its deal with Tim Hortons, Senator Carl Levin, Democrat of Michigan, declared, “If this merger goes through, there could well be a strong public reaction against Burger King that could more than offset any tax benefit it receives from a tax avoidance move,” suggesting customers take up the cause.

Indeed, the Walgreen Company, which had been considering a tax inversion transaction with Alliance Boots of Britain, voted against changing its corporate citizenship because the American pharmacy chain’s board and management worried about an outcry from customers, according to people close to the board, and were concerned that pressure from customers could spill over to the government.

Where are the investors? Happily watching their returns rise. When I asked Mr. Williams, the Florida pension manager, what he would do if he had to vote on a deal involving a Florida company pursuing an inversion that would hurt the state’s tax base, he sighed and said: “This issue is new enough — and fortunately, at this point, it’s small enough — that it hadn’t reached those dimensions. And I would just hope that we can get something done at the policy level to resolve it. That’s the best outcome.”

Not one to shy away from controversy, let me give you my take on corporate tax inversions and what U.S. public pension funds should be doing. Absolutely nothing! The reality is U.S. corporate taxes are too high relative to the rest of the world, including Canada, which is why this debate is best left for Congress and the President to tackle.

Having said this, the public needs to be informed of a few giveaways to corporations that is going on right under their noses. For example, in my comment last week on what will derail the endless rally, I wrote:

Of course, nobody really knows where the stock market is heading. A million things can derail this rally and cause jittery investors to pull the plug and sell their stocks. But with pension deficits rising as bond yields fall, pensions will be forced to take on more, not less risk. And where will they be taking that risk? Stocks, corporate bonds and alternative investments like real estate, private equity and hedge funds.

I also provided a clip where Charles Biderman, TrimTabs Investment Research CEO, analyzes current market conditions saying the market is essentially rigged and you have to "ride the tide and hope to get out before it ends."

In that clip, Biderman explains why corporations are buying back their shares. With interest rates at zero, it pays to borrow and buy back shares. While this is true, he ignores another aspect of share buybacks which I've discussed on my blog, namely, it helps corporations boost the bloated pay of their senior executives further exacerbating inequality that Thomas Piketty has brought to the world's attention.

(Also see Profits Without Prosperity, an incredible article at the Harvard Business Review which shows exactly how corporate share buybacks have gotten out of control in the last decade. It then goes on to point out the various ways in which buybacks-gone-wild are killing the capital formation process in America, holding back the investments needed to keep the country competitive and decimating the middle class workforce. For more on this article, read How corporate share buybacks are destroying America).

In fact, while I am in the camp that the Fed did the right thing to move quickly and forcefully to lower interest rates to zero and engage in quantitative easing, I was also conflicted because it was a dead giveaway to banks and the alternative investment industry.

Why? Because a zero interest rate policy (ZIRP) spells disaster for U.S. pension funds teetering on collapse, as their liabilities explode up, forcing them to invest in riskier alternative investments like private equity and hedge funds to meet their actuarial target rate of return.

Importantly, ZIRP is a boon for the alternative investment industry and big banks collecting big fees from hedge funds and private equity funds.

But if the Fed didn't lower interest rates to zero and engage in QE, it would have been a disaster for the global economy, virtually ensuring a protracted period of virulent deflation and high and unacceptable unemployment.

Public pension funds have a role to play on the bloated compensation of U.S. corporate titans and they need to bring the issues I discuss above out in the forefront. Sadly, everyone is staying mum on these issues because discussing inequality is perceived as being "anti-American," which is total bullocks!

Below, my favorite economist, Michael Hudson, unzips America in the latest installment of the Hudson-Keiser interview series where they discuss Russian sanctions and the affect on the US dollar subsidy (fast-forward to minute 14). I don't agree with everything Michael says but listen to his comments on the bubble and the aftermath and how share buybacks and corporate buyouts are enriching corporations, banks and LBO funds.

And don't forget, as I've previously discussed, big banks have aided hedge funds avoid taxes, and many public pension funds stayed mum on that scandal too. It's high time Americans take a closer look at what is driving inequality and start implementing sensible and fairer tax policies (like reducing corporate taxes but closing other loopholes favoring hedge funds and private equity funds).

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This blog was created to share my unique insights on pensions and investments. The success of the blog is due to the high volume of readers and excellent insights shared by senior pension fund managers and other experts. Institutional and retail investors are kindly requested to support my efforts by donating or subscribing via PayPal below. To get latest updates, even during the day, click on the image of the big piggy bank at the top of the blog. For all inquiries, please contact me at LKolivakis@gmail.com.

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I am an independent senior economist and pension and investment analyst with years of experience working on the buy and sell-side. I have researched and invested in traditional and alternative asset classes at two of the largest public pension funds in Canada, the Caisse de dépôt et placement du Québec (Caisse) and the Public Sector Pension Investment Board (PSP Investments). I've also consulted the Treasury Board Secretariat of Canada on the governance of the Federal Public Service Pension Plan (2007) and been invited to speak at the Standing Committee on Finance (2009) and the Senate Standing Committee on Banking, Commerce and Trade (2010) to discuss Canada's pension system. You can follow my blog posts on your Bloomberg terminal and track me on Twitter (@PensionPulse) where I post many links to pension and investment articles as well as my market thoughts and other articles of interest.

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